Patterns of Foreign Direct Investment Flows and Trade-Investment Inter-Linkages in Southern Africa: Linking Middle-Income and Low-Income Neighbors
May 2010
The World Bank
Africa Region
This note was prepared by Gozde Isik and Yutaka Yoshino for the Southern African Middle-income Country Growth Spillover Study. The note builds on earlier technical work led by Gozde Isik for the Southern Africa Trade and Integration Study. The authors appreciate valuable comments and guidance received from Harry Broadman, Ritva Reinikka, Ian Gillson, and Paul Brenton on the earlier work. Maiko Miyake and Nora Dihel served as peer reviewers of the note. Zeinab Partow, Ana Margarida Fernandes, and Tom Farole also provided useful comments. The authors also thank Shanta Devarajan for his supervision and the guidance in implementing the study.
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Table of contents
1. Introduction 2
2. Intraregional Trade in Southern Africa: Some Stylized Facts 4
Intra-SASR Trade: Large for Africa but Still Small for the Subregion 4
Growing trade between Middle-Income and Low-Income Countries in the Subregion 6
3. Patterns of Foreign Direct Investment Flow in Southern African 9
Southern Africa as the core Destination of Global FDI to Sub-Saharan Africa 9
Increasingly Diversified 11
Intra-subregional FDI in Southern Africa 11
4. Trade–Investment Inter-Linkages in Southern Africa: Some Micro Evidence 15
Productivity and Trade-Investment Linkages Among Firms in Africa: Case of Manufacturing Industries 15
Subregional Trade–FDI Linkage in Southern Africa: Findings from Original Enterprise Data from the Case Studies 20
5. Domestic Policies to Enhance Greater Trade and INvestment Integration 28
Improving Business Environment at Subregional Level to Create Level Playing Field to Foster Cross-Border Investments 28
Policies to Support Greater Regional Cross-Border Trade 31
6. Summary and Conclusion 35
References 39
Annex 41
1. Introduction
1.1 The subregion of Southern Africa weighs heavily in the aggregate economic activities of Sub-Saharan Africa (SSA), largely resulting from the large-scale economy of South Africa. The 15 members of the Southern African Development Community (SADC) contribute more than half (55 percent) of the aggregate GDP of SSA and, similarly, 55 percent of total international trade of SSA, when both exports and imports and both merchandise and services trade are combined.[1] These countries produce 80 percent of total manufactured value-added and 70 percent of total services value-added of the continent. South Africa, unarguably, is the single most dominant economy, producing 68 percent of total gross income in the subregion; the next largest subregion economy, Angola, is a distant second, contributing only 8 percent.
1.2 The countries in the subregion are diversified economically as well as geographically, comprising several middle-income countries (MICs) surrounded by low-income countries (LICs). The six MICs in the subregion—South Africa, Mauritius, and the BLNS countries (Botswana, Lesotho, Namibia, and Swaziland)—are surrounded by several LICs such as Angola, Madagascar, Malawi, Mozambique, and Zambia. Economic integration through the SADC goes further north to Tanzania and the Democratic Republic of Congo (DRC), both of which are often identified as members of other subregional groups, namely, Eastern Africa and Central Africa, respectively. A few countries including Angola, Botswana, DRC, Mozambique, South Africa, Tanzania, and Zambia are rich in natural resources. The subregion’s countries are also quite varied geographically, with a few landlocked countries (Botswana, Lesotho, Malawi, Swaziland, Zambia, and Zimbabwe) and several remote island nations in the Indian Ocean (Mauritius, Madagascar, and Seychelles).
1.3 With the dominance of South Africa in the subregion economy, an obvious question is how South Africa and, more broadly, the middle-income countries in the subregion, contribute to economic integration of the subregion particularly the low income countries which surround them. History has contributed to the way economies are integrated in Southern Africa, including the legacy of the colonial economic system as well as the previous economic relationship South Africa built with its adjacent neighbors during apartheid. The role of economic linkages between Southern African MICs and LICs in deepening regional integration has not been analyzed extensively to date.
1.4 While overall economic integration in Southern Africa is still limited, there is an increasing volume of trade between MICs and LICs and increasingly diversified cross-border investment in the subregion in recent years. While trade within Southern Africa is a large pie of total intra-Africa trade, it is only a small pie in individual Southern African countries’ total trade. However, as shown in the next section, intraregional trade within Southern Africa is growing faster now than a decade ago, largely driven by trade between MICs and LICs in the subregion. While mineral resource products are key exports from LICs to MICs, there is an increasing volume of manufactured exports from MICs to LICs in machinery and equipments partly supporting resource industries. South Africa and Mauritius are dominant sources of regional cross-border investments in the subregion, providing not only investments in natural resource extractive sectors but also in services.
1.5 The question is whether and how intraregional trade and investment are inter-linked at the subregional level. In today’s globalized economy, production processes are increasingly fragmented geographically. Firms engaging in trade of intermediate goods or services through FDI have been a catalyst in this transformation. Exploiting the complementarities between FDI and trade, they have created international production and distribution networks spanning the globe and actively interacting with each other. Having middle income economies actively participated in the global markets such as South Africa and Mauritius, it is quite likely that such transformation takes place through their intraregional cross-border investments. While difficult to observe at aggregate levels, firm-level data may provide some answers to the question how mechanisms
1.6 This note will present the stylized facts on the patterns of cross-border trade and foreign direct investment (FDI) in Southern Africa using aggregate data and analyze how FDI is linked with cross-border trade within the subregion in driving regional integration at the micro level using enterprise-level data. It will discuss how cross-border investment flows create a possible channel of growth spillover from South Africa and other MICs to LICs in the subregion and identify the roles of subregional trade and investment flows in generating these neighborhood effects with LICs. In particular, it seeks to provide some evidence to support.
1.7 This note is organized as follows. The next section provides a set of stylized facts on the patterns of trade in Southern African countries to illustrate how much (or little) Southern African subregion is integrated today and whether or not intraregional trade is growing. This will set a stage for the discussion on foreign direct investment. Section 3 presents aggregate trends in foreign direct investment flows (and stocks) in SSA, discusses how SASR is situated in such trends, and analyzes the emerging trends of intra-SASR cross-border investments, largely driven by South Africa. The patterns of FDI flows are compared with those of trade in goods, both in terms of sectoral and geographical diversification. Section 4 analyzes trade-investment linkages in Southern Africa at the firm level. Using the enterprise data collected from the World Bank Enterprise Surveys, the productivity and export orientation of firms in Southern Africa are analyzed and compared between domestically owned and foreign-owned firms operating in the subregion. This section also includes analysis of original firm-level quantitative data collected for this study in eight Southern African countries to examine in more detail the origins of foreign owners as well as the destinations of exports. These data show how cross-border investments within Southern Africa are associated with cross-border trade in goods and how such trade-investment linkages are facilitated in some corporate group structures. Section 5 discusses areas of domestic policies in enhancing trade and foreign direct investment in Southern Africa. Section 6 summarizes the findings from this analysis and discusses their policy implications.
2. Intraregional Trade in Southern Africa: Some Stylized Facts
As a prior to the discussion on foreign direct investment and its linkage with trade, this section will review a set of stylized facts about the geographical orientations of trade in Southern African countries and see how Southern Africa has been integrated through trade.
Intra-SASR Trade: Large for Africa but Still Small for the Subregion
2.1 Southern Africa is at the center of regional trade within Sub-Saharan Africa, with more than a half of trade within SSA includes countries in Southern Africa subregion (SASR) either as exporters or imports or both, with a lion’s share coming from trade within SASR.[2] Figure 2.1 shows the composition of all trade in goods among SSA countries, 42 percent of which takes place among SASR countries. Together with trade between SASR and non-SASR countries in Africa, more than a half of trade within SSA involves SASR countries either as exporters or importers or both.
Figure 2.1: Composition of Intra-Sub-Saharan Africa Trade, 2006–08
Source: IMF Direction of Trade Statistics
Note: 2006–2008 average
2.2 Despite the large share of intra-SASR trade in the total intra-African trade, the subregion is not much integrated from the point of view of individual SASR countries which are trading mostly with the countries outside of Africa. Except for the case of imports by SASR countries excluding South Africa, trade within the subregion is not yet as significant as trade with non-African countries. The vast majority of trade by countries in Southern Africa is with countries outside Africa (figure 2.2). Given the rich mineral endowments in the subregion, this is not a puzzling pattern. Strong demand for mineral resources, such as oil, coal, and copper, exists largely in other regions in the world. An increase in manufactured goods imports from China and India in recent years also contributes to the large volume of extra-regional trade. Countries other than South Africa do have a solid share of imports originating within the subregion, mostly from South Africa. A quarter of their imports come from other countries within the subregion.
Figure 2.2: Composition of Exports and Imports by SASR Countries by Destination and Origin, 2006–08
Source: IMF Direction of Trade Statistics
Note: 2006–2008 average
2.3 Comparing intraregional trade within SADC countries with the cases of intraregional trade within countries of other regional economic communities (RECs), SADC is not necessarily more integrated than other RECs in terms of trade. As shown in figure 2.3, East African Community (EAC) countries have more intraregional share in their exports.[3] Total 18 percent of their exports are intra-REC exports. Note that those do not even include exports to their adjacent Eastern African economies such as Ethiopia and Sudan who are not the members of EAC. As far as the destination-origin composition of trade is concerned, SADC countries are more integrated than Economic Community of Central African States (CEMAC) but not so different from countries in Economic Community of Western African States (ECOWAS) in terms of integration by trade.[4] Despite the large share of intra-SASR trade in the total intra-African trade, the subregion is not as much integrated as one would expect if looked from individual SASR countries.
Figure 2.3: Composition of Exports and Imports by Countries in Other Regional Economic Communities by Destination and Origin, 2006–08
Source: IMF Direction of Trade Statistics
Note: 2006–2008 average
Growing trade between Middle-Income and Low-Income Countries in the Subregion
2.4 While limited so far, intra-SASR trade is growing faster than a decade ago. Intra-SASR trade has also grown by 14 percent annually over the last 10 years. The growth has happened primarily in the last five years. While intra-SASR trade grew only by 7 percent for exports and 4 percent for imports during 1998 and 2003, it has grown 22 percent for exports and 27 percent for imports during the five years (figure 2.4).
Figure 2.4: Compound Annual Growth Rate of Exports and Imports of SASR Countries by Destination and Origin, 1998–2008
Source: IMF Direction of Trade Statistics
2.5 The majority of the intra-SASR trade is bilateral trade between South Africa and other countries, particularly LICs in the subregion. Table 2.1 shows the distribution of intra-SASR merchandise trade by origin and by destination. Approximately 33 percent and 27 percent of total intra-SASR trade come from exports from South Africa or imports by South Africa. This means that roughly 60 percent of total intra-SASR trade involves South Africa. For almost all the other SASR countries, South Africa is the leading subregional exporter and importer simultaneously.
Table 2.1: Distribution of Intra-SASR Trade by Origin and Destination
Source: UN COMTRADE
Note: % figures represent shares in the total intra-SASR trade (exports and imports). The darker the blue background, the larger the relative size relative size in the distribution.
2.6 Trade between MICs and LICs in the subregion is growing rapidly in the last five years, contributing to the recent growth of subregional trade. Figure 2.5 shows rapid growth of exports from Southern Africa MICs and Southern Africa LICs as well as exports from Southern Africa LICs to Southern Africa MICs.
Figure 2.5: Composition of Exports and Imports by Countries in Other Regional Economic Communities by Destination and Origin, 2006–08
Source: IMF Direction of Trade Statistics
2.7 For merchandise trade, manufacturing trade is the dominant leader of growing intra-SASR exports from MICs to LICs over the last five years, while fuels and mineral resources, including electricity, dominate intra-SASR exports from LICs to MICs in the recent years. More than a half (54 percent) of the current South African exports to its neighboring LICs comes from manufactured products (figure 2.6). Principal manufactured products among those exported by South Africa are vehicles for transporting products and for mining as well as construction materials such as iron sheets. Fuel exports from Angola to South Africa starting from 2007 accounts for the large jump in fuel exports from LICs to MICs. Electricity exports from Mozambique to South Africa in the same period also contributed to the large jump. Interestingly, there is also a fast growth in machinery and transport equipment for LICs exports to MICs. The detail data show that Zambian exports of wires for electricity distribution to South Africa contribute to this growth.
Figure 2.6: Composition of Exports and Imports by Countries in Other Regional Economic Communities by Destination and Origin, 2006–08
Source: UN COMTRADE